Built-in Corporation (\"B\") was formed in 2001 as a C corporation. The sharehol
ID: 2536899 • Letter: B
Question
Built-in Corporation ("B") was formed in 2001 as a C corporation. The shareholders of B elected S corporation status effective as of January 1, 2016, when it had no Subchapter C earnings and profits and the following assets: Land adj. basis - $30,000, FMV $20,000 Building adj. basis - 10,000, FMV 35,000 Machinery adj. basis - 15,000, FMV 30,000 For purposes of this problem, disregard any cost recovery deductions that may be available to B. Consider the shareholder and corporate level tax consequences of the following alternative transactions:
(a) B sells the building for $50,000 in 2017; its taxable income for 2017 if it wear not an S corporation would be $75,000.
(b) Same as (a), above, except that B's taxable income for 2017 if it were not an S corporation would be $20,000.
(c) Same as (a), above, except that B also sells the machinery for $40,000 in 2018, when it would have substantial taxable income if it were not an S corporation.
(d) B trades the building for an apartment building in a tax-free 1031 exchange and then sells the apartment building for $50,000 in 2017, when it would have substantial taxable income if it were not an S corporation.
(e) B sells the building for $90,000 in 2022.
Explanation / Answer
(a). B will be taxed on net taxable gain from sale of building plus the taxable income for year 2017. C corporations are subject to identical federal income tax rates on their ordinary and capital gain income so the character of C corporation's gain is irrelavant.
Taxable gain = Amount realized - adjusted basis of asset
Taxable gain = $50000-$10000 = $40000
Taxable income ($75000) + Taxable gain ($40000) = Total taxable income ($115000)
Tax rate applicable is 39% (34% base rate + 5% surcharge)
(b) If B's taxable income is $20000, then total taxable income will be $60000($20000+$40000) and tax rate will be 25%
( c) B will have the taxable gain on sale of machinery also and it will be taxed accordingly based on the taxable income
(d) 1031 exchange defer all capital gain taxes as the proceeds are reinvested in new property. Thus sale of apartment building will attract tax on taxable gain from sale of it. Taxable gain depend on the adjusted basis of the apartment building.
(e) S corporation will have to pay long term capital gain tax on sale of building in 2022
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